Taking a look at a few of the thought processes behind making financial choices.
The importance of behavioural finance depends on its ability to explain both the rational and irrational thought behind different financial experiences. The availability heuristic is a principle which describes the mental shortcut through which people assess the likelihood or importance of events, based on how quickly examples enter mind. In investing, this typically leads to choices here which are driven by current news occasions or stories that are emotionally driven, instead of by thinking about a wider analysis of the subject or taking a look at historical data. In real life situations, this can lead financiers to overestimate the possibility of an event occurring and develop either an incorrect sense of opportunity or an unnecessary panic. This heuristic can distort perception by making uncommon or severe occasions seem to be far more common than they in fact are. Vladimir Stolyarenko would know that in order to counteract this, financiers must take a deliberate technique in decision making. Likewise, Mark V. Williams would understand that by utilizing information and long-lasting trends financiers can rationalise their judgements for much better results.
Behavioural finance theory is an essential element of behavioural science that has been extensively looked into in order to explain some of the thought processes behind economic decision making. One intriguing theory that can be applied to financial investment decisions is hyperbolic discounting. This principle refers to the tendency for people to choose smaller sized, instantaneous rewards over larger, defered ones, even when the delayed rewards are significantly more valuable. John C. Phelan would recognise that many individuals are affected by these types of behavioural finance biases without even knowing it. In the context of investing, this bias can severely undermine long-lasting financial successes, resulting in under-saving and spontaneous spending practices, along with producing a top priority for speculative investments. Much of this is due to the gratification of benefit that is instant and tangible, causing choices that might not be as favorable in the long-term.
Research into decision making and the behavioural biases in finance has generated some interesting suppositions and philosophies for describing how people make financial decisions. Herd behaviour is a well-known theory, which describes the psychological tendency that many individuals have, for following the actions of a larger group, most especially in times of unpredictability or worry. With regards to making investment decisions, this typically manifests in the pattern of people buying or selling properties, simply because they are seeing others do the same thing. This kind of behaviour can fuel asset bubbles, where asset values can rise, frequently beyond their intrinsic value, as well as lead panic-driven sales when the marketplaces change. Following a crowd can use an incorrect sense of safety, leading investors to buy at market elevations and resell at lows, which is a rather unsustainable economic strategy.